Understanding the impact on mutual funds as a result of the introduction of new financial innovation and regulation is a matter of vital importance because all parties – investors, fund managers and regulators – want to know if performance has been positively or negatively impacted and whether outcomes will likely have implications for future policies. This study investigates the impact of regulatory changes in New Zealand, comparing results before and after the introduction of two important events in the financial environment. New Zealand’s mutual fund industry has undergone significant changes in the last decade with the introduction of new financial regulation and initiatives. On July 2, 2007 KiwiSaver, New Zealand’s voluntary work-based retirement (pension) savings scheme was introduced, focused mainly on employee and employer periodic contributions1. Subsequently, on July 1, 2013 the new KiwiSaver Periodic Disclosure Regulation came into effect. The New Zealand mutual fund industry is very small compared to the US, however since the introduction of the KiwiSaver scheme, total funds under management have grown substantially and investment participation has taken off. KiwiSaver was introduced in July 2007, and by June 2015 KiwiSaver had 2.53 million investors2, with NZD $32.8 billion under management (see

million3 with 3.16 million in the workforce4, implying an 80% participation rate in KiwiSaver. Prior to KiwiSaver’s introduction less than 30% of the active labour force was covered by a retirement plan (Kritzer, 2007). Furthermore, as noted in Table 1, as at the end of KiwiSaver’s first full year (June 2008) there were $710 million under management compared to $12.8 billion in typical mutual funds. However, by June 2015, KiwiSaver had surpassed mutual funds, $32.8 billion to $26.4 billion.

regulatory environments have changed significantly. After the global financial crisis in 2008, financial regulation came under considerable political review. The outcome in most developed economies was increased oversight and changes to regulatory structures and powers. New Zealand had the Financial Markets Authority Act 2011 (FMA Act) which saw the establishment of the Financial Markets Authority (FMA) in 20115, and in 2013 the Financial Markets Conduct Act 2013 (FMC Act) was introduced. While all changes are likely to have impacted the New Zealand mutual fund industry, this study’s second focus is on KiwiSaver (Periodic Disclosure) Regulation 2013 (later revamped to the Financial Market Repeals and Amendments Act 2013)6 which came into force on July 1, 2013. As the name suggests, the KiwiSaver Periodic Disclosure Regulation require fund managers to produce Quarterly Disclosure Statements and Annual Disclosure Statements, also known as QDS and ADS, respectively, for each KiwiSaver fund. QDS must be made publicly available by fund managers within 15 working days the end of each quarter and ADS within 60 working days. Disclosure statements help investors to evaluate fund performance and fees, to know what the major investments of the fund are, and to make comparisons with other funds. This is easier under the new regulation, due to an increased consistency of information. There is an extensive financial literature on mutual fund performance dating back many decades. However, a dearth of academic studies exists on New Zealand mutual fund performance. With the relatively recent introduction and growing size and importance of KiwiSaver, a few empirical studies have appeared in recent years focussed on KiwiSaver performance. Our focus, however, is on the wider New Zealand mutual funds industry, and how the introduction of KiwiSaver has affected the rest of the New Zealand mutual fund landscape. Our main research questions are: How did risk-adjusted fund performance change as a result of 1) the introduction of KiwiSaver and 2) the introduction of the KiwiSaver Periodic Disclosure Regulation? We pose these questions to help build our understanding of the impact of financial market innovation and regulation on mutual fund performance. Ultimately, further studies could shed more light on many other important detailed questions7, but in this study our interest is to better understand how markets perform with respect to financial regulation. To examine the effect of the introduction of KiwiSaver (KS) on New Zealand mutual fund performance, we examined the eight year period before and after the September 1, 2007 introduction of KS. The second event is the introduction of the KiwiSaver Periodic Disclosure Regulation (KSPDR), evaluated with two year periods pre- and post-KSPDR introduction on July 1, 2013. To measure risk-adjusted performance, we use the familiar CAPM, Fama and French (1993) three-factor model, and Carhart (1997) four-factor model. Following Frijns and Tourani-Rad (2015) this study evaluates fund performance by measuring exposure to New Zealand and Australasian equity markets. We extend this method by grouping equity funds by regional investment focus to select an appropriate benchmark on four groups: New Zealand, Australia, Australasia (funds investing in New Zealand and Australia), and Global. We find that the overall impact of introducing the KiwiSaver funds has been positive for the industry, with more investment participation by New Zealanders, and little performance impact. We also find that the impact of the increased regulation has had no negative impact, and may have helped in investment participation. It is our view that this implies that extending similar regulation to the rest of the industry is probably good for the industry as well.

We drew monthly returns (net of fees) data from the Morningstar database for all8 New Zealand open ended, active, equity mutual funds during the period of September 1999 to August 2015, including 30 funds which terminated during that period. Using Morningstar’s “Global Category”, funds were classified according to each fund’s investment focus:

In each case, this was the region that the fund reported as their focus of investment. We examined all equity funds (including “dead” funds), only excluding those with fewer than 12 monthly returns. In our final sample there were 109 funds, of which 21 were New Zealand, eight were Australian, 32 were Australasian (funds investing in both Australia and New Zealand), and 48 Global. We did not include KiwiSaver funds, as we wanted to examine the impact of KiwiSaver scheme’s introduction on the rest of the industry. Tables 1 – 3 show how the fund industry has grown over this period, both in dollar terms (Table 1) and in the number of funds. For example, for funds investing in New Zealand only, there were as few as four prior to KiwiSaver, but as many as 16 in the period after the scheme’s introduction. Regarding total investment, in KiwiSaver’s first full year there was a total of $16.4 billion NZD of invested funds (including funds invested in KiwiSaver), and this quadrupled to $65.6 billion NZD in 2015.

To examine the impact of the introduction of KiwiSaver (KS), and the introduction of the KiwiSaver Periodic Disclosure Regulation (KSPDR), we estimated regressions for the overall New Zealand fund industry before and after each of these events. As we had sufficient data available, for KS, we estimated regressions eight years before and after 1 Sep 2007 (hence Sep 1, 1999 to Aug 31, 2007, and Sep 1, 2007 to Aug 31, 2015). With less available data, for KSPDR we used two years before and after 1 July 2013 (hence July 1, 2011 to June 30, 2013 and July 1, 2013 to June 30, 2015). For both the eight and two year periods, there were an equal number of observations before and after our two “events” of 1 Sep 2007 and 1 July 2013. In each case, for each category described above - a) New Zealand equity, b) Australian equity, c) Australasian equity, d) Global equity – we formed an equally weighted portfolio of all funds in that category. We then estimated regressions based In on eachmodels case, from CAPM, for each Fama- category French (1993) described above -and a) Carhart New Zealand equity, b) (1997):Australasian equity, d) Global equity – we formed an equally weighted portfolio of all fu We then estimated regressions based on models from CAPM, Fama- French (1993) and Ca

Ri ,t = !iJ + "i RMRFt + # i ,t Ri ,t = !iFF + bi RMRFt + si SMBt + hi HMLt + " i ,t Ri ,t = !iC + bi RMRFt + si SMBt + hi HMLt + wWML i t + " i ,t

In Table 1 we show how total 5. dollars Empiricalinvested Results has increased from the time the KiwiSaver 2015. In 2008, the first full year of the KiwiSaver availability, $NZD 16.4 billion In Table combination 1 we show how totalof open-end funds, dollars invested KiwiSaver has increased funds, from the and time the other superannuation KiwiSaver was introduced untilfunds, of wh 2015. Inwas 2008,inthe thefirst KiwiSaver. full year of The KiwiSaver the KiwiSaver investment availability, $NZD grew rapidly 16.4 billion wasnearly investedmatching in the open-end

In Table 1 we show how total dollars invested has increased from the time KiwiSaver was introduced until 2015. In 2008, the first full year of KiwiSaver availability, $NZD 16.4 billion was invested in the combination of open-end funds, KiwiSaver funds, and other superannuation funds, of which only $710 million was in KiwiSaver. KiwiSaver investment grew rapidly nearly matching open-end funds in 2014 at just under $24 billion, and then in 2015 surpassing open-end with $32.8 billion to open-end’s $26.4 billion. We also note that with the introduction of KiwiSaver regulation, the amount invested in KiwiSaver almost doubled from 2013 to 2015. Tables 2 and 3 provide descriptive statistics about the fund portfolios, KS, and KSPDR. In general, raw returns were lower in the post-KS period, which is not surprising given that this period was almost entirely during the global financial crisis. In the post-KSPDR period, raw returns were higher, which may be mostly due to increased participation. However, it is important to note that in some periods some portfolios had a very small number of funds. This is especially true for the Australia portfolio where, in the early years of the pre-KS period (Table 2), there were as few as two funds. This suggests that these results should be taken with a substantial grain of salt. As noted above, raw returns are shown in both Tables 2 and 3, and risk adjusted returns are reported in Tables 4 and 5. In the period around the introduction of KiwiSaver (Table 4), there are not many significant alphas, especially once we consider 3 and 4 factors. Of the Carhart alphas, only Australasian funds over the entire period are barely significant (at the 10% level). For KSPDR, many more of the alphas are significant, and most improved in the post-KSPDR period. For example, the entire group (“All Equity”) went from an insignificant 0.27 to a significant 0.62. However, our real interest is in the significance of the changes in these alphas. For that we used the difference-in-means test, the results of which are reported in Tables 6 and 7. From the eight year period, prior to KS to the eight year period after (see

is warranted; as with most analysis of New Zealand stocks, our sample size is quite small. For example, as noted earlier there were on average only five funds primarily covering Australia, with as few as two in the early years of our sample. There were more funds primarily covering New Zealand – on average about 11 – but as few as four in the early years. The Global funds do show improvement over these periods, but only for the CAPM and Fama-French risk models. Considering all the funds, there are about 56 funds on average and none of the changes in alpha are significant at the 1% level. This suggests that although KiwiSaver has had a substantial impact on the number of New Zealanders investing and there may have been isolated instances of some traditional funds experiencing detrimental performance. For the overall industry what impact there was can probably be attributed to the GFC.

t-statistics are reported below the coefficients in parentheses. Coefficients marked with ***, **, and * are significant at the 1%, 5%, and 10% level, respectively

t-statistics are reported below the coefficients in parentheses. Coefficients marked with ***, **, and * are significant at the 1%, 5%, and 10% level, respectively

For the two years before and after the KSPDR, there is again the problem of small samples for some of the categories. However, most of the categories, notably the Global funds, do have an improvement in performance.

This study examines the impact on the mutual fund industry of introducing a major superannuation scheme into a small economy, and the impact of increased regulation on the scheme. KiwiSaver, New Zealand’s new superannuation scheme, has dramatically increased the investment participation rate of the labour force, resulting in funds invested in the scheme overtaking standard mutual funds by 2015, with a four-fold increase in total overall fund investment. With regard to mutual fund performance, a comparison of the risk-adjusted returns in the eight year period after KiwiSaver to the prior eight years shows a significant deterioration in some categories of the funds. However, especially due to small sample sizes, our overall evidence for a significant impact is weak. Given the dramatic improvement in investment participation by New Zealanders, we can readily conclude that overall, the introduction of KiwiSaver funds has been positive. We draw a similar conclusion for the new law, the KiwiSaver Periodic Disclosure Regulation. In comparing mutual fund performance in the two year period after the regulation change to the prior two years, we found some significant improvement and no evidence for a negative impact. This shows that the increased regulation have not harmed fund performance and may well have contributed to the rapid inflow of invested dollars into KiwiSaver funds. Obviously, these results for New Zealand are not conclusive for other small economies, but they are suggestive. While it is clear that KiwiSaver has substantially improved participation in retirement savings throughout the workforce, and that KiwiSaver Periodic Disclosure Regulation improved the KiwiSaver’s overall safety, this study has shown that both have not had a broad, deleterious effect on the existing mutual fund environment.

End Notes

There is an initial $1000 contribution from the government, then a (currently) minimum combined contribution rate of 6%. KiwiSaver Statistics available from http://www. KiwiSaver. govt. nz/statistics/ Population Statistics as of June 30, 2015 available from Statistics New Zea- land http://www.stats.govt.nz/browse_for_stats/population/estimates_and_ projections/NationalPopulationEstimates_HOTPAt30Jun15.aspx Data from Bloomberg More information about the FMA and its role https://fma.govt.nz/fmas-role/ what-we-do/our-role/ For legislative information http://www.legislation.govt.nz/regulation/public/ 2013/0047/latest/whole.html

For example, what is impact of regulatory change on fund managers performance?, does increased regulation lead to elimination of small funds or industry consolidation, or increased fund administrative costs?, what is effect of fund size, flows, or characteristics? To avoid survivor bias we include all funds. Although we use the term “Australasian” it includes only Australia and New Zealand; we use this term (rather than, say ‘combined’) to avoid confusion with a combination of the first two sets.